DRAFT

AN INTRODUCTION TO GREEN LEASING

  1. WHAT IS A LEASE

A Lease agreement is a contract between a lessee (borrower or Tenant) and a lessor (owner) for the use of a building, property or other asset. It allows the lessee to use the asset for a specified rent and period of time. A Lease agreement formalizes the duration of the Lease, identifies the assets under Lease, includes the names of the two parties and specifies the payment method (periodic or lump sum).

The commercial building Lease, in its widest sense, governs the relationship between the Landlord and the Tenant: who can do what, when, how, and who pays. It gives exclusive possession of premises in return for rent and compliance with certain rules. In the office context, the Landlord may control the shell, common areas of the building, and operations, but it is the Tenant who controls activities within its own space. Both will usually have standards governing their conduct.

The current commercial Lease[1] landscape is comprised of a wide variety of Lease types, each reflecting the diverse nature of land use types, individual Landlord and Tenant preferences, and building history.Common types of commerical Lease agreements include the following, though there are many variations and sub-types:

  • Gross Lease
  • Net Lease (including Double Net Leases and Triple Net Leases)
  • Percentage Lease
  • Land or Ground Lease.

The most common among these are the Gross Lease in which Landlord pays operating expenses, including utilities, and the Net Lease in which the Tenant pays some or all operating expenses, with many types and variations under them. Often, these leases are not structured in a way that promotes better environmental performance. Under most Gross Leases, for example, Tenants have no incentive to save energy in their leased premises because energy costs are based on Tenant square footage. Under most Net Leases, building owners have no incentive to invest in efficiency for their building systems because the operating expenses are passed through to Tenants, whowould therefore receive all of the energy cost savings[2].

In the past, provisions in a commercial Lease generally did not encourage, allow, or fairly allocate the costs of reduced energy usage, reduced water usage, reduced materials usage, or the diversion of waste or recyclables. Recently owners and Tenants have started looking at the Lease as a means to provide an opportunity to enable greater energy efficiency or sustainability improvements than either party could achieve on its own.

  1. GREEN LEASE[3]

Like a normal commercial Lease, a Green Lease[4] governs the relationship between Landlord and Tenant, but through an environmental lens. A green Lease is either a new Lease or a modification to an existing Leasebetween the Landlord and Tenant with an additional set of schedules compared to a ‘normal’ Lease contract, such as a contractual basis for monitoring and improving energy performance, mutual obligations for both Tenants and owners to achieve resource efficiency targets (e.g. energy, water, waste) and to minimize the environmental impacts. This ensures that an office operates at an agreed level through regular monitoring and ensures issues can be addressed as they arise. Green leases helps to ensure that leases are structured to create compulsion, to create incentive, and to create flexibility, for both parties to do the right thing.

A green Lease should not be equated to leasing space in abuilding with a Green Building certification. Rather, a green Leaseexpands on existing Lease clauses, integrating environmentally sustainable goals for the building and identifying how the Landlord and Tenant will meet them. For example, changes can be made to clauses including alterations, maintenance and repairs, subletting, insurance, utilities/services, and relocation. Depending on which party drives the process, a green Lease may cover everything from daytime cleaning to who owns the rights to potential carbon credits under future regulations.In the process it tries to align the financial and energy/environmental performance incentives of building owners and Tenants so they can work together to save money, conserve resources, and ensure the efficient operation of buildings. It provides compulsions and encouragements/incentives and remove disincentives in a commercial Lease to improve environmentally friendly practices by both the Landlord and the Tenant. To achieve all these, the Green Leasing process requires greater cooperation between Landlord and Tenant than traditional leases.

Green leasing is much more than the negotiation and drafting of Lease language. It involves the integration of environmental sustainability objectives throughout the entire commercial leasing process.

Green leasing has altered the traditional relationship between the Landlord and Tenant. Tenants are demanding alterations in core and shell improvements as well as demanding that Landlords perform their operations and maintenance duties in specific ways. Landlords are dictating the type of materials and equipment a Tenant can use in its office space as well as demanding compliance around programs such as recycling and conservation. These are setting up new processes and negotiation points in commerical leasing.

To properly integrate environmental objectives into standard clauses of a Lease, it is important to understand the concept of Green Buildings[5]. Green Buildings refer to an all-encompassing concept of environmental sustainability of the built environment, achieved through various methods. Green Buildings result in cost savings and reductions in resource consumption and environmental impacts. It also could help to boost the market value of the property and the environmental credentials of the Landlord and Tenant. A proper design process can ensure that this is achieved with littleor no additional initial investment and reasonable payback periods. The proper operation and maintenance of Green Buildings is important or else they may not realise their potential.

There are many barriers for Green Leasing. This is described in Annex 1. To become more effective, Green Leasing needs to be packaged with other good practices such as benchmarking; rating and disclosure efforts; retro-commissioning; and broader energy and environmental management policies and programs.

  1. NEED FOR GREEN LEASING

Green leasing is one of the measures that helps to operationalise Green Buildings and realise their potential in operation.

Green Leases are needed to rectify the deficiency in commercial leases, which are mostly drafted with clauses of general application, but mostly cannot accommodate new “green” issues. Examples are:

  • Current commercial Net Leases generally donot set out any environmental objectives.
  • Few leases contemplate limiting waste production by the Tenant, both in initial fit-out, and in ongoing operations. Most leases donot obligate the Landlord to recycle with multiple waste streams.
  • Many commercial leases generally do not allow the Landlord to purchase green power if it costs more and pass the costs on to the Tenant.

Leases are long-lived agreements, that could last from a few years to few decades, taking into account the renewals. Normally major clauses are incorporated in a Lease when they are initially framed. Subsequent renewals normally change only the rental rates and Leaseterm. However, environmental issues and global warming require immediate action. Commercial leases needs to be modified at the earliest opportunity, and should have the flexibility to accommodate the required adjustments in operations and standards to achieve environmental management objectives. A Green Leasing programme helps to achieve this.

  1. APPROACHES

There are at least two approaches to a green Lease:

  • Paternalisitc approach

Obligations for reduced consumption and environmentally responsible behaviour are mandated by either the Tenant or the Landlord within the Lease. This could be two types

  • Tenant-paternalistic Lease:

The Tenantwishes to force the Landlord to do its part to assist in compliance. In this case, the Tenant might have a strong green brand or internal “green” targets it is subject to.

  • Landlord-paternalistic Lease:

Landlord wants its Tenants to toe the line in achieving certain environmental goals. Here, the Landlord might want to green its portfolio, or be seen as environmentally responsible.

  • Co-operative model

Both parties buy into the need to green an existing building and mutual objectives are set out in the Lease for both parties to achieve, leading to responsibilities and liabilities for both parties.

  1. PROCESS

The Green Leasing process, particularly with respect to modifications to existing leases, can be initiated by either the Landlord or Tenant (especially large Tenants). The Green Leasing process can potentially relate to or be subsumed in many other project development steps, such as real property agreements; energy performance contracting; design, engineering, and construction; operations and maintenance; and environmental management initiatives.

The obvious place for Landlords and Tenants to work together is right from the beginning in the leasing process, though Green Leasing principles can be introduced to a Lease negotiation at any time, whether during the initial Lease negotiation or upon a Lease renewal, or at any time in between . The majority of Green Leasing work occurs months before the Tenant has selected a suitable space. Of course, once the initial Lease is signed, the parties may have little incentive to bring up green issues, unless the green features benefit both parties sufficiently enough to overcome the usual inertia. Even when a comprehensive greening is not possible or practical, the parties may agree to amend an existing Lease to implement specific sustainability objectives.

The following could be the steps to be followed towards achieving a Green Lease:

  • Understand the building portfolio.

Prior to negotiating a Green Lease, the potential Landlord and Tenant must assess the basic requirements for the space that is to be leased.Variables to consider include:

  • the percentage of total leased space that Tenants occupy or seek to occupy;
  • building age and condition;
  • Lease term and structure (e.g., Gross Lease in which Landlord pays operating expenses, including utilities, or a Net Lease in which the Tenant pays some or all operating expenses);
  • presence of other Tenants (including the Landlord) in the building;
  • Landlord and Tenants experience with sustainability.
  • Engage key stakeholders

Including relevant stakeholders in the design and negotiation of a GreenLease can increase the likelihood of its acceptance and successful implementation by all parties. Key stakeholders likely include:

  • Landlords, real estate owners and managers: These groupsare critical to the development and execution of benchmarking policy.
  • Tenants and their organizations
  • Utilities: They can provide valuable technical assistance and incentives to undertake environmental management projects facilitated by Green Leases.
  • Technical experts.
  • Common Green Lease principles and minimum standards

Before going into the details of Green Leasing, it would be good to have a broad agreement between the Landlord and Tenants on the common principles and minimum standards that the Green Lease should aim at. An example is the three principles forming the basis of the Natural Resources Defense Council’s Energy Efficiency Lease Guidance:

  • The Landlord should operate the building and the Tenant should operate its premises as efficiently as possible.
  • For any given system, installation, or piece of equipment, the responsibility for the capital expense and the benefit of savings should reside with the same entity. Alternatively, all of the savings achieved by virtue of a system improvement should be available to pay for the improvement.
  • To the extent feasible, both consumption and demand for resources throughout the building should be measurable and transparent to both the Landlord and the Tenants.
  • Needs Assessment

Conduct an assessment to establish the desired attributes of the space, such as budget, location, image, services, amenities, as well as green requirements

  • Define Green Leasinggoals

Annex 2 describes how environmental goals can be set.

  • Prepare to negotiate.
  • Plan for measurement and verification

An effective measurement and verification plan can verify and document the benefits of Green Leases and enable involved parties to correct unsuccessful leasing practices and replicate success. The parameters and measurement methods will vary depending on the types of measures included in the Lease.

  1. COMPONENTS OF A GREEN LEASE

There is no universal standard for a Green Lease. The following could be the possible components of a Green Lease:

  • The Lease
  • A document which specifies the environmental commitments and objectives. It could contain:
  • An environmental management plan with sustainability goals.

Apart from the Plan and the Goals, clauses could be specified to allow flexibility in adjusting the sustainability goals, depending on:

  • the type of occupancy and degree of usage, or changes in them
  • specific needs of Landlords and Tenants
  • need to make them compatible with any standard, label or certification schemes
  • extensive works to be undertaken
  • the target standard, label or certification were to be modified or discontinued
  • changes to any standardised terms/defintiions or assumption used
  • consideration of changes to the Leasing structure as progress is made in achieving the sustainability goals
  • Assumptions
  • define the assumptions on which the environment management plan was based (eg, the ability to specify higher cost for sustainable energy sources, use of Life Cycle Costing principles, use of the building, loading of the building, climatic data)
  • Identify variables that are beyond the scope of the environment management plan (e.g. use of the building, loading of the building, climatic data)
  • Apportion obligations for meeting the targets to both parties.
  • Standardisation: How the functions, performance and usage of the building and facilities were standardised and agreed upon by the Landlord and all the Tenants
  • Calculation
  • include a tolerance on the targets and outcome, taking into account the accuracy of modeled versus real building performance
  • make allowances or corrections for factors that will influence environmental performance of the building, but are beyond the control of the Landlord or Tenant (e.g. non-average climatic effects or an increased intensity of use of the building)
  • define a calculation basis for fair cost recovery if the environmental goals are not met.
  • Landlord rights and obligations to meet the sustainability goals
  • Tenant rights and obligations relating to the sustainability goals
  • Co-operation required
  • Monitoring and verification methodology and process
  • Dispute resolution

REFERENCE

BCCC. Green Tenant Toolkit. Business Council on Climate Change

Brooks, S.M, 2008. Green Leases and Green Buildings. Aird and Berlis LLP

Government of New Zealand. Appendix C: Green or Performance based Leases, Sustainable Government Buildings: Beyond Design

Herbert Smith LLP, 2011. French “Green Lease” and Environmental Appendix: model form and example clauses

Navigant Consulting,Inc, 2013. Green Leases Toolkit 2.0. California Sustainability Alliance Programme

NRDC. Green Lease Forum: Energy Efficiency Lease Guidance. Natural Resources Defense Council.

RMI & BOMA, 2012. Working Together for Sustainability: The RMI-BOMA Guide for Landlords and Tenants. Rocky Mountain Institute & The Building Owners and Managers Association (BOMA) International.

ANNEX 1

BARRIERS FOR GREEN LEASING

One of the main barriers for Green Leasing is the “split incentive” issue, which results from the structure of many commercial leases. The most common kinds of commerical Lease is the Gross Lease and the Net Lease, with many types and variations. Often, these leases are not structured in a way that promotes better environmental performance. Under most Gross Leases, for example, Tenants have no incentive to save energy in their leased premises because energy costs are based on Tenant square footage. Under most Net Leases, building owners have no incentive to invest in efficiency for their building systems because the operating expenses are passed through to Tenants, whowould therefore receive all of the energy cost savings.

To further complicate the issue, unless the Tenant space is separately metered or submetered, all of the Tenants pay a pro rata share of the building’s energy or water costs. Therefore, Tenants have little incentive to modify their behavior or implement any energy or water reduction strategies because they must share the reward of their improved behavior while also sharing the costs of other Tenants’ wasteful behavior, who would be considered as “free riders”.

Another main impediment to Green Leasing is that it is a relatively cumbersome option. Even at the time of Lease renewal, the Landlord and Tenants are often reluctant to enter into a new Lease agreement, as it is often a very lengthy and arduous process. Frequently, the only terms of the Lease that are renegotiated are the Lease term and rental rate. To combat this barrier, letter agreements have been successfully implemented in some cases and could prove useful when renegotiating a green Lease is not practical. A letter agreement is typically used when the building owner has a specific retrofit planned and needs to get the Tenants’ buy-in, or renegotiate some of the terms of the Lease to more equitably share the costs and the savings of the proposed retrofit—without reopening any of the other terms of the Lease contract.

Depending on the type of Lease, there are also other barriers for Green Leasing for Landlords and for Tenants. Some of the barriers are indicated below:

BARRIERS FOR LANDLORDS

  • long pay back periods for some types of improvements,
  • Indifferent or unco-operative Tenants
  • lack of skill or knowledge.
  • lack of knowledge of an achievable target by either the Landlord or the Tenant;
  • the lack of compulsion or incentives from government;
  • no measurement systems to determine existing levels of water, fuel or electricity consumption;
  • a lack of capital;
  • the lack of building operational expertise.
  • restrictions in the existing Lease documents within a portfolio. For example, there may be Landlord build-out specifications that apply to the Tenants premises, such as minimum light levels at the desktop, tight permissible temperature ranges, limitations on the Landlord in making changes to the premises or base building features, or restrictions on the type of materials or equipment that can be used.

BARRIERS FOR TENANTS